US Fed leaves rates unchanged, signals December hike. NZ rates rise on strong labour market report, in contrast to other markets where wholesale rates fell

By Jason Wong

Ahead of the FOMC the risk-off mood, driven by a rising chance of a Trump victory, has driven global bond yields lower. 

UK 10-year gilts fell by a chunky 11 bps to 1.17%.  That follows a particularly vicious sell-off during October and short covering of positions might have been a factor in the rally.  German 10-year bunds fell by 5 bps to 0.13%.

Ahead of the FOMC meeting, US rates were also on a lower path, with the 2-year rate down 2bps to 0.81% and the 10-year rate down 5bps to 1.78%.  ADP employment data were slightly softer than the market expected, but not enough to significantly change expectations for Friday’s more important payrolls report.

As widely anticipated, the FOMC left rates unchanged.  There were only minor changes to the Statement, recognising that household spending had moderated but on the inflation side, the recent increase was recognised as was the move up in inflation compensation (wages).  The key policy line was “…the Committee judges that the case for an increase in the federal funds rate has continued to strengthen but decided, for the time being, to wait for some further evidence of continued progress toward its objectives.  In our view, as long as the data and market conditions behave between now and then, a December rate hike should follow.

In the 15 minutes after the Statement, there was little change in US rates, if anything a slight upside bias to rates.

Yesterday, NZ rates rose on the back of the strong labour market report.  While wage inflation remained well contained, the 8-year low in the unemployment rate was indicative of future inflationary pressure.  An 80% chance of a 25bps rate cut is priced in for next week, reflecting the guidance given by the RBNZ, but the market now believes that there is little chance of further cuts early next year.  In fact, the OIS market moved to pricing in the chance of rate hikes from the June meeting next year.

This dynamic drove the 2-year swap rate up 5 bps to 2.185%, its highest close since mid-July.  There was a small flattening of the curve with the 10-year swap rate up 2.5 bps to 2.88%.

NZ’s 10-year government bond rate rose by 4 bps to 2.75%.  This was significant in light of the risk-off tone that was evident during the Asian trading session and Australia’s 10-year bond rate fell by 4 bps to 2.34%.  This highlighted that the NZ rates market was driven by domestic forces, in contrast to the usual global forces.

Tonight we have another central bank on the record.  With the UK economy holding up better than expected since the June referendum and inflation on the verge of shooting higher no action from the Bank of England is expected at tonight’s update.